The MNB is walking on a tightrope

HUNGARY - In Brief 08 Nov 2016 by Istvan Racz

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CPI-inflation in October came out as 0.6% mom, 1% yoy this morning, just slightly above the 0.9% yoy market consensus, which we shared, and up from 0.6% yoy in September. Much of the upturn came from higher fuel prices, with non-fuel inflation measured at 0.3% mom, 0.9% yoy. The latter was actually not that bad, as the non-fuel yoy rate even fell slightly from 1% in September. But overall, the various core inflation measures were between 1.4-1.8% yoy in October, i.e. markedly higher than the headline rate.As an important consequence, headline inflation is now higher than the MNB's 0.9% base rate, which is very rare and has not occurred since September 2012. Both then and now, a marked tightening of fiscal policy could/can be observed, which made/makes the negative real base rate acceptable in short term. But one major difference is that this time around, negative real rates may stay for a longer while, particularly as CPI-inflation is likely to move upwards to core inflation by end-2016, and probably further up in 2017-2018. In the meantime, fiscal policy is expected to loosen again for the election campaign, the ESA2010 fiscal deficit growing from 0.7% of GDP in H1 2016 to the targeted 2.4% next year. So it is fine the MNB's inflation target is 3% (more accurately 2-4%), but still, the base rate should be raised at some point before inflation runs away and would become difficult to handle. But that cannot be done right now, because of two circumstances: (a) at EURHUF 305-306 again, the forint is too strong for industrial competitiveness, and any rate hike would undercut growth (note that industrial output fell by 3% mom, sda, again in September); and (b) PM Orbán, the...